Venture Capital Vs. Private Equity, Setting It Straight

It has been fascinating to watch the 2012 Presidential campaign kick into high gear. I liken it to rubbernecking on the highway. While I am not making a political statement on this blog post, I think we need to have a discussion on the differences between Private Equity and Venture Capital, considering the frenzy around Mitt Romney and Bain Capital. It’s amazing to me how a lack of fundamental understanding of this concept has permeated its way into the campaign. I know I shouldn’t be surprised when the media doesn’t do basic research or homework to truly understand an issue. However, I am more agitated with the candidates themselves who regularly use phrases like vulture capital to describe Bain Capital and their strategy. This is not only completely incorrect, but misleading and hurtful to a company, person and industry that has done some truly great things. Let’s be clear, there is a major difference.

Venture Capital describes a class of investment that focuses on smaller, earlier stage companies. Our investment is virtually always for equity only and is never leveraged. We initially take Minority ownership positions to make sure the early team is properly motivated to build a high growth company and share in the financial success. We are backing entrepreneurs, their ideas and their ability to scale the business. Think of it in terms of rocket fuel. Many crash and burn, but the successful ones can be spectacular. The risk is higher, but offset by potential return. In the process, these investments can create many jobs, as early growth stage companies typically need to scale rapidly.

Private Equity is an asset class that Venture is technically part of, but is usually meant to describe the investment strategy. Private equity firms are typically acquiring majority or controlling positions in larger, more established companies. The larger deals use leverage to complete the transaction as many of these can be in the hundreds of millions or even billions of dollars. The firms then help to manage the newly acquired asset, often replacing top management, selling or divesting of underperforming assets and acquiring other strategic companies to build a more efficient and profitable entity. The goal is to then sell the company at a premium. When it is successful, the emerging company will be more successful, can provide a great opportunity for job growth and build shareholder wealth.

Both investment strategies are appropriate for certain investors and both can offer tremendous value and return as well as create jobs for the future.

Good investing.  Comments always welcome.

Getting Connecticut Back to Work, Part II

In Part I of my blog post “Getting Connecticut Back To Work”, I recommend increasing access to venture capital and angel financing as a way to support CT’s growth and job creation in the tech space.

Another strategy to encourage state growth is to stimulate and develop new funds or entities and other sources of capital financing.

One option is to cultivate the number of private and public sources of capital, in addition to the work done by Connecticut Innovations (CI).  CEOs of major Connecticut companies could be encouraged to allocate funds, either directly by such companies or by their pension funds, to one or more new Connecticut venture funds.  This can be coupled with tax incentives or credits, not unlike the existing Insurance Tax Credit program.  An important part of the message is that all stakeholders in Connecticut must work to reinvigorate the state’s economy, thereby enhancing the overall entrepreneurial environment.  Connecticut businesses, be they multinational or local, should support this effort.  In addition, it is time to start encouraging the pension funds to think CT first. While these funds have private equity allocations and even some later stage venture, a very small amount is actually in CT based early stage venture; the point at which many growth businesses are being created.  The growth of venture and other sources of capital will compliment the efforts of CI directly.

Another option is to create a state SBA program similar in scope to the federal level program with matching funds for state allocated investments. Matching at 1:1 or 2:1 is acceptable. The federal program has been successful in the past and has created several new firms in the process. At Cava, we are on the ground, finding great companies and working with their management teams to execute their vision. A state program could be very effective in drawing funds to the area, enticing more companies to build their futures here with the increased access to capital.

Getting Connecticut Back To Work

As a Connecticut business owner and resident, I have a vested interest in the success of my home state. It is regretful that CT has had such a poor record in job creation over the last 20 years. In fact, the state ranks dead last in net job growth over that period.

As a venture capitalist in the area, we have been focusing the majority of our time on opportunities coming from NYC, where the innovation and investment pace have been meteoric. However, we have made it a goal of the organization to support CT’s growth initiatives as best we can.  Cava has decided to headquarter in Norwalk, CT with an office in NYC as well.

Cava has two investments already in Connecticut: etouches; the leading provider of event planning software to organizations worldwide and Zadspace; an innovative advertising technology solution for ecommerce providers. Both are located right in the heart of Fairfield County, which has long been home to many marketing services and direct marketing organizations. Zadspace was originally located in Los Angeles. We decided to relocate the company to CT in order to take advantage of the talent and client base located here.

I am committed to help spur CT job growth and prosperity while still remaining true to Cava’s discipline and approach. On that note, I have decided to do a series of posts recommending how we might all work together to foster a community of high quality opportunities, while reversing the trend of poor job creation in the state.

Recommendation # 1:

Increase access to Venture Capital and Angel Financing

Venture capital financing is the “lifeblood” of emerging growth companies. As part of my dedication to CT, I have been working with several other investors and entrepreneurs on a task force for Economic Development in Connecticut, specifically focusing on the Emerging Companies Sector.  In particular, I am a huge believer in starting at the ground floor; building an early stage angel and venture culture. This has been done very successfully in NYC where they have created a friendly environment to spur angels to invest. Some ideas include refining the state angel tax credit system and starting a fund-matching program for early stage VC. This will help get much needed capital into the hands of early entrepreneurs who are very nimble at this stage. We can attract entrepreneurs to relocate to CT or we can keep the incredible talent and resources we have coming out of our fine institutions right here in our state.

Such early stage angel and venture financing is key to building a critical mass of tech companies in Connecticut. If we look around the area, NYC has built an impressive and vibrant community of venture investors, angel and seed investors, entrepreneurs and growth capital. Companies are flocking to New York to start and operate their technology businesses. In fact, New York has shown an incredible burst of innovation, specifically in the Media sector. According to the latest venture data last quarter, NY ranked #2 behind Silicon Valley in dollars invested. We have seen virtually every major VC firm in CA and Boston open offices in NY to take advantage of the deal flow and opportunity. In fact, NYC is now considered the East Coast capital in VC. This took roughly 10 years.

I am committed to making 2012 the year that poor job creation in Connecticut is replaced with exciting and innovative growth.

Subscribe to my blog for Recommendation #2:  Stimulate and Develop Other Sources of Capital Financing

The Tweeners Have This VC’s Attention

What is the inevitable outcome from the amazing amount of seed capital that has been deployed to hundreds if not thousands of companies over the past few years?

• Dead soldiers? Well yes, that happens all the time.

• Amazing companies ready to soar to the next level, seeking large amounts of capital to continue their growth at sky-high valuations? Of course, welcome to the boom and bust nature of venture capital.

Somewhere between the two you’ll find the companies I’m talking about; those which have exhibited really compelling early progress, but not quite enough to naturally fall into the hype category, giving them freedom to raise whatever they want at whatever valuation someone is willing to pay.

I’ve named this middle bunch “Tweeners”, somewhat akin to that uncomfortable zone kids go through right before blossoming into full-blown teenagers with all the potential in world ahead of them.  It’s not too difficult to find them if you look hard enough, but don’t confuse them with the “Weaners” – those that can wean you of your money faster than you thought imaginable! If you can find and engage these Tweener companies, it can be an amazing journey.  This is classic value investing, VC style.

It goes something like this.  In walks a really compelling company which is on the right track:

• Value proposition is right.
• The business solves a really well defined problem and early beta customers rave about the usefulness of its product or service.
• Technology is working great and looks great (UI). They might be in version 1.0, but their roadmap is well defined.
• The team looks solid, albeit a bit thin, as they have been  bootstrapping on some early angel or seed capital that helped define and build the technology.
• The balance sheet looks solid as the team has been judicious about their cash flow and budgets.
• The business model needs some definition as they are  juggling 2 or 3 revenue sources (Licensing, Subscriptions, Advertising) and determining which has the most promise (in consumer, it might be less about revenue and more on customer adoption).

And then the hammer -  “We need to raise $5 million.”  Sound familiar?

This used to be the place for institutional entry points, the classic series A.  However, that has now been shifted to the institutional seed and angel rounds. But it doesn’t solve the problem. For the most part, these companies shouldn’t be raising $5 million.  It would be nice, of course, but if they could raise the $5 million, money would have come to them before they even hit the road. What they really need is another $1-2 million to further refine the model, grow the team, demonstrate revenue / traction and focus, focus, focus.

This is the hardest thing for most new entrepreneurs to figure out. Thriving on chaos is fun but can also be very counter-productive. For everyone’s best interest, the CEO needs to set 3-5 measureable goals, metrics, and core focus points that the entire organization can achieve on the appropriate raise of capital.  Such as:

• physical customer count growth
• site traffic
• revenue
• average sale growth
• product features and performance
• partnerships
• new hires
• customer support

These should be very well defined and an integral part of the road show’s pitch. Put them out front, “We intend to use the money in the following ways and ACHIEVE these 4 things. This is how you measure your investment in us as a team and me as a leader.”  This method is bankable and it is smart. It shows maturity and leadership. It gets everyone on the same page.

What does that mean for your valuation? As I have always said, don’t get so fixated on valuation at this stage. This is the time for building a great company, team, investor group and a compelling story for continued success. Focus on the size of the pie, not the slice.  If you do what you say you will do, the next round will take care of itself at a very compelling valuation for everyone involved. It’s in everyone’s best interest to make this happen.

We are seeing a number of Tweener companies right now and frankly, I am enjoying every minute of it. They feature inspired young entrepreneurs with big visions and grand plans. I am passionate everyday about helping them build something great.  Now let’s grow some companies!

Response is great for LOCAL RESPONSE

Cava is pleased to announce our latest investment in Local Response, the leading check-in based ad network.

The amount of press received on this deal is impressive.  Click here to see coverage from The Wall Street Journal, Business Insider, Ad Age and more.

Our intense focus on solutions that provide marketers new and integrated ways to reach consumers drove the thesis for the investment decision. Local Response is led by a industry leading and very talented team and has developed a solution that is resonating nicely with leading marketers and brands across the US with average CTR of campaigns ~40%. Clients include  Coca-Cola, Microsoft, Verizon, General Motors, Aveda, Walgreens and MacDonald’s.

The total investment of $5 Million dollars was led by Cava Capital with Vodafone, Advancit, Progress and existing investors all participating. Funds will be used to scale the sales team, ship an enterprise version of the product and augment distribution channels.

We look forward to supporting the team and the success of the company. GO Nihal, Kathy and the LR Team!!

It’s the Innovation Economy Stupid!

I have been reading a lot of articles recently declaring a “bubble” in the VC or tech world. To be honest, I am trying to understand the logic supporting this fascination. I know we have pundits: either political, economic or other types, who consistently create something out of nothing, but this topic is one that never ceases to amaze me. If we really look at the anatomy of a “bubble”, it would reveal a structural flaw. In the real estate market we had huge price gains linked to cheap mortgage rates but the most important issue was the corrupt and lenient lending standards of the institutions underwriting practices. During the last tech bubble, we had inflated public and private valuations based on ether. Just hope and hype. Today, with all the problems that this country faces to retain or recapture leadership, technology bubbles is not one of them. We should be celebrating the innovation economy not decreeing it as another bubble. Structurally, there is no major flaw. Pricing is up because companies are actually making money, delivering goods and services that people want. With few exceptions, most companies have real business models that weren’t even available in the late 90′s. There are more angels pumping early stage capital into ideas. This is a much needed and welcomed part of the infrastructure as more companies therefore get created. Yes, many will fail, but that is the price of innovation. It has never been any different. Also, the economics of the early stage deal have become more viable. Capital efficiency, another buzzword for this generation, is actually true. Have you seen how little it actually costs to get in business these days! Instead of bubble talk, how about changing the mindset to one of possibility. Our children and associates all benefit if the economy is built on the backs of entrepreneurs. It is one of the great things about us. We are the best innovators and nobody can take that away. Celebrate this revival in innovation, don’t chastise it.

Cava is proud to announce our newest investment

Cava is proud to announce our newest investment: Zadspace, Inc. A fantastic ad software company. http://cavacapital.com/news.html

Quora – My new favorite habit

I know a lot has been written about Quora. Lots of it is positive, some negative. Like anything else, I guess its a matter of perspective and time before we will all see whether they are the next great social thing or a mere blip on the proverbial radar. I for one really enjoy the format. The long form response not only allows for more color on any topic, but helps to provide a framework for the entire string. Additionally, I have seen a tremendous amount of solid information in the responses. Admittedly, I have spent the majority of my time on the entrepreneurship, start-up and venture boards, with an occasional jump to wine. Believe it or not, they are not as far removed as you might think! What has been a real surprise has been the quality of the information so far, the intelligent discussions as if people actually think about their answers. I contrast this to the public boards at most news, information and political sites that are at best 50% junk or pontification. Secondly, the social aspect is contagious. I feel like I need to check in and make sure I post a couple of times per week. This isn’t out of a desire or need to hear myself speak, but rather I want to support the community. I consider it part of our responsibility as users. Matter of fact, it could be the first true crowd sourced incubator. The information available for start up entrepreneurs is immense and very usable. On top of that you have some of the worlds finest minds available to you. From Fred Wilson to Mark Suster and everyone in between. Its like walking into the stadium and getting to talk to Albert Pujols or Joe Mauer about hitting. I find myself mystically drawn back on a daily basis, if nothing else, to acquire more learning for myself to be a better investor and partner to our portfolio companies. I hope this continues, Quora is a remarkable experience.

StartUp America

All the recent press and coverage of the new White house program Startup America has certainly had a positive impact on the state of innovation and entrepreneurship in America. For those who haven’t seen the Austan Goolsbee, Chairman of the Council of Economic Advisers video on the program click here.
For those who are unfamiliar, although if you are reading this, I would be surprised, the administration announced Monday the creation of the “Startup America Partnership,” an initiative aimed at creating new jobs and industries of the future by promoting high-growth entrepreneurship and innovation across the country. Steve Case, co-founder of AOL was named leader of the initiative today. Key parts of the initiative include tax breaks for certain small businesses, access to capital through the SBA program for funds who are investing in high growth businesses, mentoring from private and public organizations to companies and promises to clear out red tape at the governmental level to help reduce burden on small busiensses.
We agree with others that the overall commitment by the administration is a very positive and much needed boost to innovation. We will remain very supportive of the underlying components as well. We will however, continue to monitor the program from the ground up and hope it wont find its own political morass. We have been preaching the innovation and entrepreneurship message as a defining moment for the US now for many years. We still have a leadership position in this “industry”. Very few out innovate us. Even fewer can create the kinds of successful company stories that we have in the past 40 years. The fact remains however, that we must try to remove all barriers to an outright innovation nation. We must tackle some tough issues that will still prevent this from full exposure. The startup visa and immigration reform, creation of innovation zones in many states, tightening of our IP protections, grants for continued research and development, easing and elimination of subsidies on corporate protections (oil and corn) and the creation of those for the investing in tomorrows jobs (clean energy). I could go on.

This is a great start and we applaud and support the movement. Lets follow through and make sure this is a defining moment. We will be watching and eager to participate.

And Now For the Rest…

My bad..Its been a long two weeks since the last post. Looking at a ton of new deals and really exciting things have kept me away. Facebook / Goldman Deal..wow. LinkedIn talking about filing, attending the UBS Tech and Media conference and Linda Gridley’s awesome event on the 11th. With that said, here is the rest of our top ten list from 2010 so I can bury this and move on with our posts.

#7: Growth of the secondary markets: This has been fascinating to watch over the past few years. We got a very early look at Sharespost from my friend and founder of the company Greg Brogger a while back and he has done a great job getting them off the ground. With Second Market and Sharespost offerings, they have effectively created another opportunity to create liquidity among founders, employees and investors. With the public markets virtually still shut down for many smaller companies, this alternative for individual and institutional investors has been awesome. Huge dis-intermediation. Love it.

#6: Growth of Tablet based computing: I used to use an HP tablet back in 2006 that was so cumbersome and frankly not attractive, that I all but gave up on the format. The IPAD revolution has converted me. They are legitimate on their own without having to be a replacement for the laptop. Changes the way we work, read, play and consume.

#5: Revival of the Merger and Acquisition market: Deals are back in vogue. Corporate balance sheets are flush with cash and innovation and R&D is so often now confused with the M&A or Business Development department. Given we see this continuing well into the next few years, we look at companies primary strategy as being M&A. Very few entrepreneurs see themselves wanting to run a public company and dealing with the hassles, the expense and the short term mentality. The classic acquirers are back again.

#4: Data transformation: Lets just say the last 20 years has been about Data gathering and process. The next 20 will be about usage, information advantage and prediction. This is a huge change. We are looking for those great companies taking advantage of this approach

#3: NY is on Fire: I have posted before about how bullish I have been since the beginning on the NY Metro marketplace. Sometimes I felt as if I was screaming from the hills but no one was listening. Well that is certainly not the case. NY has not only become a legitimate place to start and operate a business, it now the fastest growing venture regions in the country. New funds, lots of angel and seed capital to support start-ups and entrepreneurs who seem to be business driven first and technology driven second. That’s refreshing. I love the west coast, but the east is here to stay this time. Bet on it.

#2: Media transformation: The landscape has transitioned from one consisting of a phone monopoly and three television networks to a variety of networks delivering a broad range of new and re-purposed content to all sorts of devices: allowing consumers to communicate and collaborate. Business models have also undergone significant change. The usage of media and communication is billed by the multiple methods. Furthermore, the notion of immediate media and communication consumption has been altered by the time and place shifting. Individuals communicate across – and expect seamless transparency between – home and office, device and device, and domestic and international. Yet there is still a huge disconnect between Madison avenue and silicon valley. Interesting place to be..

#1: Universal Connectivity: We saw the real beginning of this in 2010. We expect this to be the theme well into this decade. Look around you, visit CES, talk to your clients, ask the consumers. Its everywhere. Our view: We are careening down a path towards a world defined by Universal Connectivity: a place where barriers are broken down between devices, content, applications, people, platforms and data. The integration of these disparate entities into a unified system will require a rich set of solutions and infrastructure. The breakthrough companies enabling this new reality will have sustainable competitive advantageand huge asset value for years to come. Bring on 2011!!